USD to Stay Strong Despite the US Fiscal Cliff and the Fed's Open-Ended QE Programme

Obama winning a second term may mean a short term pop in risk appetite, but could mean the risk of a worse fiscal cliff and few policy developments going forward due to political gridlock

The US fiscal cliff is a real threat to the US economy, but certainly not to the US Dollar - quite the opposite

Latest e-book from Saxo Capital Markets launched, arguing the Fed's QE will not kill the US Dollar

The US Dollar will remain a strong currency in the medium term despite the looming US fiscal cliff and the harmful effects of the Federal Reserve's open-ended and theoretically unlimited quantitative easing (QE) programme, says Saxo Capital Markets UK.

John J. Hardy, Head of FX Strategy at Saxo, comments:

"Obama's re-election means political and Federal Reserve business as usual in the US - but also means plenty of uncertainty surrounding the fiscal cliff.

In "The Dollar & the Fed: QE won't break the buck", the first e-book in Saxo Capital Markets' FX Debates Series, Saxo envisages that the USA and its currency are in a far superior position than the other major countries thanks to stronger fundamentals. As a consequence, the Dollar is likely to stay stable or appreciate over the next 12 months.

Hardy continues:

"The Dollar still looks better than most other major currencies regardless of the fact that QE is not working and is not the right prescription for the economy.

"The Federal Reserve's aggressive quantitative easing programme, while it may have kept the economy on a kind of life support and prevented a steep deflationary environment in the initial phases of the deleveraging cycle, has done little to address the structural problems of the economy. In fact, at this point, it risks inflicting harm rather than helping. It presents risks of new asset bubbles - most dangerously in commodities - and keeps too much of the worst kind of debt in the system alive while meting out negative real interest rates on savers.

"The way Obama and the lame duck Congress tackle the impending fiscal cliff will be of crucial importance for the US economy. Ironically, the worse the fiscal cliff, the better the Dollar will likely do because the US Dollar is so linked to global risk appetite and the threat of a US recession would likely see the USD appreciate.

"Another big USD event in the pipeline is next year's appointment of a possible new Fed Chairman if Bernanke decides not to run or if the political environment proves hostile to nominating someone of Bernanke's always-QE-all-the-time stripes. The process starts as early as mid-2013 and could prove quite a distraction. Any threat to the Fed's QE gravy train or suggestion that someone of a less-dovish bent could replace the Fed chairman could see the USD soar.

According to Saxo Capital Markets, the US economy is still better placed relative to other large countries. The main factors supporting the Dollar include:

A difficult transition period in China - the country needs to make large structural adjustments in order to boost domestic consumption to replace dwindling demand from abroad;

The 'reshoring initiative' has started as US manufacturing costs have become far more competitive for some companies relative to China.

The 'Shale Gas Revolution' in the US means producers can look forward to vastly cheaper energy than the rest of the world pays for gas-driven electricity and heating. It's a boon to consumers as well.

The US demographic profile if far younger than Japan and Europe where the proportion of pensioners is soaring and will continue to do so far more quickly than in the US for decades;

The US Government could consider a second round of the Homeland Investment Act (HIA), which could stimulate the economy without adding to the fiscal burden by allowing US corporations to repatriate foreign profits with either no tax or very little. The potential USD-positive flow from this alone is in the hundreds of billions of USD;

The Eurozone crisis weakening the Euro;

The currencies of the commodity economies (e.g. Canada and Australia) are currently overvalued.

The #FXdebates series of articles will be published bi-weekly over the next four months, leading the way to an event in February 2012 in collaboration with Bloomberg LINK.

Saxo Capital Markets UK Limited is a wholly owned subsidiary of Saxo Bank A/S, the parent company of the Saxo Bank Group, an international financial services group specialising in trading and investment across global financial markets. Saxo Bank has operated in the UK since March 2006, initially as a branch of Saxo Bank A/S and since 1 January, 2012 as Saxo Capital Markets UK Limited.

Additionally a large base of Banks, Brokers, Asset and Money managers, utilise our award winning white label solutions, in order to provide their clients with access to all or some of our trading platforms and associated liquidity.

Find out more about FX Trading opportunities with Saxo Capital Markets.

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